The projected NOI for a property purchased at S1.2 million is S100,000 in Year 1. The NOl isexpected to increase at a rate of 5% per annum, The property is sold at the end of Year 2 for$1.5 million. Given a safe reinvestment rate of 5%, what is the modified internal rate of return(MIRR) of this project?
Question
The projected NOI for a property purchased at S1.2 million is S100,000 in Year 1. The NOl isexpected to increase at a rate of 5% per annum, The property is sold at the end of Year 2 for$1.5 million. Given a safe reinvestment rate of 5%, what is the modified internal rate of return(MIRR) of this project?
Solution
The Modified Internal Rate of Return (MIRR) is a financial measure that investors use to compare the attractiveness of different investments. It adjusts the regular internal rate of return (IRR) to account for the fact that cash flows generated by the investment are often reinvested at a rate that is different from the IRR.
Here are the steps to calculate the MIRR for this project:
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Calculate the future value of the cash inflows: The NOI in Year 1 is 100,000 * 1.05 = 1.5 million at the end of Year 2. So, the total cash inflow in Year 2 is 1.5 million = $1,605,000.
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Calculate the future value of the cash inflows, assuming they are reinvested at the safe reinvestment rate: The safe reinvestment rate is 5%, so the future value of the cash inflows at the end of Year 2 is 1,685,250.
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Calculate the initial investment: The property was purchased for $1.2 million, so this is the initial investment.
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Calculate the MIRR: The MIRR is the rate that makes the future value of the cash inflows equal to the initial investment, compounded over the number of years of the investment. In this case, the investment is for 2 years. So, the MIRR is the rate (r) that satisfies the equation 1,685,250 / (1 + r)^2. Solving this equation for r gives an MIRR of approximately 18.6%.
Please note that the MIRR can vary depending on the specific assumptions made about the reinvestment rate and other factors.
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